American Airlines' Beacon Funds Take Flight

AMR Sells Investment Unit with $61B AUM to Private Equity

On the heels of its $328 million loss in the first quarter, down from a $81 million profit in the first quarter of 2008, American Airlines' parent company, AMR Corp., Fort Worth, Tex., announced on Wednesday it is unloading 90% of its American Beacon Advisors investment management unit for $480 million in cash.

That 90% interest is being picked up by Lighthouse Holdings, an affiliate of two private equity firms: Pharos Capital Group of Dallas and TPG Capital of Forth Worth. The sale is expected to close this summer, pending the approval of American Beacon's shareholders and clients.

AMR's American Beacon Advisors serves as investment manager to $30 billion across 23 no-load mutual funds under the American Beacon Funds moniker, as well as the AMR employees' pension fund, short-term cash for clients and a private equity fund-of-funds. All told, the whole unit manages approximately $61 billion. The fund group was incepted in 1987.

M&A Trajectory Controls

Going forward, the fund and pension industry is likely to see both private equity firms and more traditional financial firms acquiring asset managers, said Ben Phillips, managing director and head of strategic analysis at Jefferies Putnam Lovell, a division of Jefferies Group.

In 2007, private equity firms spearheaded record levels of acquisitions. So far this year, private equity has been less aggressive, but they undoubtedly will remain active in M&As, enticed by asset managers' cash flows and historical average of delivering profit margins of 35%, he said.

Certainly, while this has hardly been the case, with the credit crisis this year hammering the profits and the stock prices of investment firms by a conservative range of negative 65%-90%, experts throughout the industry are touting an earnings bounceback of about 60% for the fourth quarter, year over year.

This is not the first time American Airlines' wholly owned asset management subsidiary has been on the auction block. Previously, after strategic reviews with independent consultants, AMR chose not to close on a sale.

"Clearly, the company has grown from the $26 billion we had in 2003 to over $60 billion now, and we've expanded the product line significantly," said Bill Quinn, 60, chairman of AA's investment unit. "We're ready for the next phase of growth."

Logically, being part of a major airline company, AMR is not going to spend a lot of money on its non-core business, Quinn added. A sale to private equity firms should allow American Beacon to spread its wings.

In January, Quinn relinquished his additional title of CEO to Doug Herring, who had been serving as the unit's president and will retain that role, as well.

Acquirer Pharos Capital is no stranger to the American Beacon Funds group. In fact, its co-founder and managing partner, Kneeland Youngblood, has served on the board of directors of the American Beacon mutual funds since 1996 and as its board chairman since 2005. On account of the intended sale, Youngblood has now resigned that chairmanship role, Quinn noted.

Pharos' private equity portfolio includes several healthcare companies, business services and applied technology firms. According to Phillips, this will be Pharos' first financial services portfolio holding.

TPG Capital (stands for Texas Pacific Group) plays in the big boys' space along with PE heavyweights Carlyle Group, KKR and The Blackstone Group. Its most recent and notable purchase was a $7 billion investment earlier this month into Washington Mutual, the Seattle-based bank with $328 billion in assets.

The two private equity firms reportedly teamed up to acquire the 90% interest in American Beacon through Lighthouse Holdings, as Pharos was unable to make the investment on its own.

Still High-Flying

Quinn said the sale will not affect him, and he fully intends to remain on as chairman "for the next couple of years." Moreover, virtually all of the unit's employees will stay put, he added.

The American Beacon Funds, formerly known before March 1, 2005 as the American AADVANTAGE Funds, are unique in that they have always charted their own flight path.

The primarily sub-advised funds never adopted the typical alphabet soup share class nomenclature (A-shares, B-shares, C-shares), instead preferring to have an institutional share class (minimum $2 million initial purchase), alongside an AMR Class, PlanAhead Class (offered to clients of discount brokers and those in retirement plans) and Service Class (acquired through financial intermediaries such as brokers), as well as a Mileage Class for its American Beacon Money Market Mileage Fund, which earns investors American Airlines mileage points linked to their level of investment. The American Beacon Money Market Fund also sports a special share class: the Brown Brothers Harriman ComSet Class.

The fund group is also unusual in that until 2005, compensation for its independent board trustees consisted only of free American Airline travel and enough cash compensation to cover each trustee's annual tax liability on that free air travel. Spouses' travel was also covered.

But in January 2005, the trustee compensation was changed so that a stipend of a mere $1,000 was paid to trustees for each board meeting and committee meeting attended. In addition, board chairman Youngblood received an additional $10,000 per annum for his service as the board chair. This pales in comparison to the $250,000 the larger asset managers typically pay their board members.

According to the latest figures available, the American Beacon Funds' trustees (sans Youngblood) earned an average of $49,000 per year for their board service. That's less than one-third of the median $152,500 annual compensation earned by mutual fund trustees in a comparable sized fund group, according to recent figures released from Management Practice of Stamford, Conn.